Federal Reserve policymakers meet Tuesday to consider when to raise interest rates, but the strong dollar and inflation risks put them between a rock and a hard place
Facing tough structural problems and disappointing growth, monetary authorities in Europe, China and Japan have cut interest rates and taken extraordinary measures—such as aggressive quantitative easing and charging interest on reserves banks hold at central banks—to push liquidity through banks and boost private spending.
Low rates and more liquidity abroad has attracted more investment to U.S. alternatives, boosting the dollar against the currencies of major trading partners by about 15 percent since last summer. This makes foreign goods and services less expensive in U.S. markets and American exports more expensive and harder to sell abroad.
Both slow U.S. industrial activity, and the New York Federal Reserve Bank estimates a stronger dollar is slicing about 0.6 percent or $100 billion off GDP. That should translate into about 850,000 fewer Americans employed.
A stronger greenback also drags on the profitability of U.S. firms that both produce and sell abroad. For example, McDonald’s recently boosted prices at many overseas restaurants, but translating those sales in weaker foreign currencies into U.S. dollars reduced overall first quarter corporate revenues by 10 and earnings by 8 percent. That story is repeated at U.S. companies as diverse as Kimberly-Clark, Caterpillar and United Technologies.
Limits on domestic sales growth and the profitability abroad curtail wage increases and corporate spending on equipment and R&D, and steer investment planning from organic growth toward acquiring smaller competitors. No surprise—U.S. merger and acquisition activity is up about 30 percent since last summer.
By raising interest rates this summer, the Fed would make U.S. investments even more attractive to foreigners, further strengthen the dollar and exacerbate all those adverse consequences.
